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Commentary: This Tax Could Tangle The Global Net

June 25, 2000

Information Technology

Commentary: This Tax Could Tangle the Global Net

When an American downloads software from the Internet, it's almost always a tax-free transaction. That's because it's not yet clear who, if anyone, has the right under U.S. law to place levies on such sales. But such complexities don't seem to faze the Eurocrats in Brussels. If the European Commission has its way, non-European companies that sell and deliver cyberproducts online--videos, games, and music, in addition to software--will eventually join European rivals in charging customers a hefty value-added tax.

That's the gist of a draft law made public in Brussels on June 6. "We don't think supposedly superefficient e-companies should enjoy an unfair subsidy against High Street retailers," says Per Haugaard, an EC spokesman.

It's Europe in a nutshell, combining a long tradition of regulatory rectitude with a determination to tax everything that moves--even if you can't quite see it. As a strategy, it's wrongheaded. Level playing fields are fair enough. But taxing digital content is a risky way to raise eroding revenues. If Brussels pursues a unilateral vision of regulating the Internet, it could undermine global e-commerce negotiations now in progress in Paris. More than this, Europe risks falling behind in its effort to construct a New Economy. The wise way forward is to stop trying to plug leaky tax systems and drop VAT charges on downloaded products.TOUCHY NEGOTIATIONS. The argument has already been joined. The U.S. and Europe have been negotiating Internet taxation at the Organization for Economic Cooperation & Development for more than two years. Those talks are touchy enough: As the U.S. resists taxes, the EU's frustration grows. But the proposed measure is hardly helpful. "The EC's unilateral action, if implemented, could well hinder the development of this global medium of commerce," says Deputy Treasury Secretary Stuart E. Eizenstat. Intel Corp. Chairman Andy Grove has a point, too, when he says the proposed law is nothing less than "e-protectionism."

The EC's approach won't raise much revenue--and may be unenforceable anyway. More than 80% of online downloads are business-to-business transactions, which will remain untaxed. It's consumers the EC is after. But while books, clothes, and other such goods bought over the Net can be taxed easily enough, vendors will have a hard time determining even whether the buyer lives in Europe. The EC says it can overcome this by taking consumers' addresses off their credit cards. But card companies and consumers are likely to resist that sort of solution.

Even if vendors can verify that a purchaser resides in an EU country, the measure now on the table in Brussels will do little to protect national tax regimes. The EC proposes to allow non-EU digital suppliers to pay all their VAT charges in the EU country of their choice. That's likely to lead them all to Luxembourg, where the VAT, at 15%, is among Europe's lowest. Goody for Luxembourg. But there's probably little gain in the new digital commerce tax for other members. Denmark and Sweden, where the VAT is 25%, may block the proposed law for precisely this reason.PRICEY EURONET? Europe believes in firm rules. It thinks they give entrepreneurs and consumers confidence to conduct business online. In recent months, Eurocrats have proposed a digital signature for e-commerce and restrictions on encryption software; they also have imposed rules on resolving online disputes.

But Europe's regulations are often excessive to the point of impracticality. Internet service providers in Europe are accountable for the content posted on their sites, for instance, while in the U.S., ISPs are protected from legal action. Meanwhile, still-hefty phone rates and VAT charges make the Euronet a pricey place to hang out. On average, Europeans stay online half as long as Americans because it costs too much.

It's time Europeans recognized how damaging burdensome tax regimes are in a borderless world. And digital commerce is the best market to teach this essential New Economy lesson.By William Echikson; Bureau Chief Echikson Covers the Net and E-Commerce from Brussels.